Telegram ICO from the Legal Point of View

Telegram ICO from the Legal Point of View

@lawlesstech

On 13th of February, Telegram’s Notice of Exempt Offering of Securities was published on the United States Securities and Exchange Commission website.

According to the Notice, from January 29th, 2018 to February 13th, 2018, Telegram Group and TON Issuer Inc., corporations registered in British Virgin Islands and managed by Pavel Durov and his brother Nikolai Durov, have raised $850 millions US dollars from 81 accredited investors in exchange of issued securities.

Numerous public sources have called this sale an ICO. But was it one? The lawless.tech team reviews Telegram’s fundraising from a legal perspective.  

$850 Millions US Dollars From 81 Investors. What Was That According to the Law

Well, what is an ICO? According to SEC, ICO (Initial Coin Offering) is the way of raising capital used by the companies and individuals for their businesses and projects. “These offerings involve the opportunity for individual investors to exchange currency such as U.S. dollars or cryptocurrencies in return for a digital asset labeled as a coin or token,” SEC stated.

In lawless.tech’s opinion, such definition is quite general.

Basically, a project can sell (1) the right to receive and thus own digital tokens in the future; and (2) the right to receive and therefore own digital tokens straight away (usually, once the payment is made). In both cases, from a legal perspective, what the project actually does is passes the title to digital tokens, not the digital tokens per se.

Thus, an ICO can be defined as the process of raising funds for the project’s development via passing titles to digital tokens issued by such project to the ICO’s participants in exchange for cryptocurrency or fiat money.

According to the Notice of Exempt Offering of Securities, Telegram Group Inc. and TON Issuer Inc. have sold Purchase Agreements for Cryptocurrency in exchange for $850 m.

Unfortunately, other details of such sale are not available to the public at the moment, however, pursuant to the TON Whitepaper, the token sale will likely use a SAFT to be converted 1:1 to native TON tokens (Grams) after the deployment of the TON Blockchain in Q4 2018.

In case Purchase Agreements for Cryptocurrency were sold as SAFT (The Simple Agreements of Future Tokens), Pavel Durov has indeed held an ICO or, at least, presale.

What Could be the Reasons to Choose SAFT Model Instead of Utility Tokens Sale

In July 2017, the United States Securities and Exchange Commission reported that some digital tokens can be qualified as securities. In order to sell securities, their issuer is required to register such securities with the SEC and publish a prospectus.

In other words, in order to legally hold an ICO that offers securities tokens, an issuer is required to spend a lot of time and money to register securities with the United States Securities and Exchange Commission.

However, the U.S. Securities Legislative contains some exemptions, so an issuer can sell securities without their registration with SEC. Thus, if one does not intend to sell securities to the public but intends to sell them to the accredited investors only, he or she will be able to use Rule 506(c) of Regulation D to exempt themselves from general rule of the securities registration with SEC.

According to SEC, purchasers in a Rule 506(c) offering receive “restricted securities.”, i.e. “previously-issued securities held by security holders that are not freely tradable.” Pursuant to SEC, after such a transaction, the security holders can only resell the securities into the market by using an effective registration statement under the Securities Act or a valid exemption from registration for the resale, such as Rule 144.

Thus, digital tokens sold as securities even under Rule 506(c) of Regulation D might not be freely tradable.

This has been done in the past. For instance, Blockchain Capital used, among others, Rule 506(c) to hold a token sale in April 2017. According to its Notice of Exempt Offering of Securities, Blockchain Capital sold securities tokens on III Digital Liquid Venture Fund, using Regulation D 506(c) as an exemption from the obligation to register tokens as securities with SEC.

But was it a success after all? Investors received no warranties, the tokens offered no valuable rights to the investors, and, after all, were listed only on two exchanges: Liqui and EtherDelta. Furthermore, according to Coinmarketcap, Blockchain Capital digital tokens (BCAP) are no longer available to trade on these exchanges. Perhaps, the reason is that Blockchain Capital digital tokens were classified as securities in its Notice of Exempt Offering of Securities. Probably, other exchanges opted to play it safe and refused to list tokens that can be deemed securities.

The SAFT model looks more appealing than an offering of securities tokens as an issuer sells just Simple Agreement for Future Tokens which grants the right to receive and thus own digital tokens in the future, most likely when the product is officially launched.

Yet SAFT is not freely tradable, while future digital tokens most likely are. Moreover, those tokens usually are utility tokens but not securities tokens.

Well, that could be the reason why Pavel Durov decided to sell Purchase Agreements for cryptocurrency to the accredited investors instead of selling digital tokens to the public over a simple token sale. Another explanation could involve minimizing legal risks of being dragged into legal proceedings both by the regulators or token holders. Pavel Durov could also do that for the purposes of future liquidity on cryptocurrency exchanges and price appreciation of the tokens in the future. After all, the number of those who want to purchase Telegram digital tokens might be huge only due to very limited initial sale.

Why Could Pavel Durov Choose an ICO Instead of Traditional Financing

There definitely could be two reasons why Pavel Durov opted for an ICO:

  1. The need to raise funds.  
  2. A great opportunity to raise said funds via an ICO.

The need to raise funds  

Telegram FAQ used to read: “Telegram is not intended to bring revenue, it will never sell ads or accept outside investment. It also cannot be sold. We're not building a “user base”, we are building a messenger for the people. Pavel Durov, who shares our vision, supplied Telegram with a generous donation through his Digital Fortress fund, so we have quite enough money for the time being. If Telegram runs out, we'll invite our users to donate or add non-essential paid options.”

However, now Telegram FAQ reads as follows: “We believe in fast and secure messaging that is also 100% free. Pavel Durov, who shares our vision, supplied Telegram with a generous donation, so we have quite enough money for the time being. If Telegram runs out, we will introduce non-essential paid options to support the infrastructure and finance developer salaries. But making profits will never be an end-goal for Telegram.”

Furthermore, Gregory Klumov, co-founder of Stasis.net platform and crypto investor, said in a phone interview with Bloomberg that Durov is taking advantage of the ICO wave to get some extra cash. “With growing user base, he would’ve eventually run out of money,” Gregory said. According to him, Pavel Durov opted for an ICO as a mechanism to raise funds without getting outside investors into Telegram’s shareholder capital.

Pavel Durov have had bad experience with vk.com, and thus he would like to stay as much independent from other possible stakeholders as possible.

A great opportunity to raise said funds via an ICO

TON Whitepaper reads: “According to Tokenmarket, 84 percent of blockchain-based projects have an active Telegram community, more than all other chat applications combined. Forbes and other media outlets have called Telegram the «cryptocurrency world’s preferred messaging app» and «as ubiquitous to the cryptocurrency world as Snapchat is to a teenager».”

Pavel Durov, of course, knows that Telegram has a strong and big community. The messenger’s success doesn’t stem from billboard advertising in Manhattan or pay-per-click advertising but from product/market fit and word-of-mouth marketing. Durov has an excellent product, a strong community, and a well-known and respected personal brand, which all make up a recipe for a successful ICO. It would be very unwise of him just to miss out on such an opportunity for fundraising and upscaling, after all.

Conclusion

Telegram’s ICO is another good case both from the legal and marketing perspectives. The number of blockchain projects which are going to raise funds over ICO and prefer (1) private sales over public ones; and (2) selling SAFT rather than digital tokens to accredited investors only in compliance with US securities laws will most likely increase exponentially.

Interested? Read also ICO in Legal Terms: An Introduction, ICO in Legal Terms: Utility Tokens Sale, ICO in Legal Terms: An Offering of Securities Tokens.


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